How a banking giant was laid low

NAME a scandal-plagued US company in the headlines and one bank keeps showing up behind the scenes: JP Morgan Chase. Enron, Global Crossing, Tyco International and Kmart are among the troubled clients of America's second largest bank - formed last year by the historic combination of two of the oldest names in the US financial world, JP Morgan and Chase Manhattan.

'Some of the major banks, like JP Morgan Chase, got heavily involved with companies playing games and they are paying a pretty stiff price now,' said David Wyss, an economist at credit rating agency Standard & Poor's.

JP Morgan appears to be paying the highest price of all - disgruntled shareholders, a sagging commercial loan portfolio, big trading losses and another round of debilitating job cuts spread through global operations in 50 countries. While the likes of Citigroup have managed to offset a poor investment-banking climate with gains on the consumer side, JP Morgan Chase's dark hole grew in the third quarter.

The bank 'can't maintain acceptable profitability', said Moody's analysts in a bluntly worded statement when they downgraded its debt rating a notch. Particularly worrying are its commercial loans. JP Morgan Chase has already taken a $450m (£289m) hit from failed energy trader Enron, with analysts expecting more to come.

If it ultimately ends up a defendant in the mass of civil lawsuits from Enron creditors and shareholders - a decision made by the courts - it will face billions in potential liability. It has previously written down $1.4bn in bad loans to telecoms and cable companies and that may not be the end of it, say analysts. It had a big exposure to Kmart, the retailer struggling to stay alive after filing for Chapter 11 bankruptcy protection, while Tyco International drew on $14bn in credit lines arranged by JP Morgan Chase. And the bank was among the largest lenders to troubled Argentina.

JP Morgan's shares have dropped steadily all year, from a 52-week high above $40 to below $20 in anticipation of today's quarterly earnings release, which the company warned some time ago would be particularly ugly. Its rivals have also stumbled in the weak economy and sluggish trading environment, but not as badly.

When Standard & Poor's and Moody's downgraded JP Morgan's debt, it was a particularly painful blow to the merger of equals that has fallen short of fulfilling its potential. Analysts are saying one more setback and chief executive William Harrison could lose the confidence of his board, which until now has voiced nothing but support.

Investors have already lost faith in the merger that was supposed to create a worthy rival to industry behemoth Citigroup. Although the shares have recovered from the lowest levels, JP Morgan's market capitalisation is hovering about $35bn, less than the cost of the mega-merger with Chase and a string of pricey acquisitions of investment banking boutiques, from San Francisco's Hambrecht & Quest to London's Robert Fleming.

All in all, the company spent $40bn to grow its way to banking stardom. Still, some JP Morgan supporters believe it will eventually get there. The merger is still in its infancy, they note. Bank tie-ups take a notoriously long time to implement and realise potential - Citibank and Travelers struggled in the early days. JP Morgan Chase this summer underwent its first big executive management purge - Citigroup had several before finding the right team to drive profits forward.

As for Enron, Global Crossing and the rest, Harrison believes it is highly unfair for his or any bank's reputation to be tarnished by corporate debacles no one saw coming. 'After every bubble there is a search for scapegoats,' Harrison recently wrote in defence of his bank. He said it adds 'insult to injury' to blame the banks, especially those that have taken the hardest financial hits from the scandals. Some analysts agree the company is being unfairly singled out.

As the world's largest syndicator of commercial loans, it is no surprise JP Morgan Chase is feeling more pain than most in an economic downturn that has the added element of accounting scandals at some of the country's biggest borrowers.

'You get a wide divergence of opinion about how their risk management has been handled,' said analyst Diane Glossman of UBS Warburg. 'I don't think they are as poor at managing risk as the market is suggesting.'

Several top analysts still retain buy ratings on the bank despite profit deterioration, credit downgrades and government investigations affecting all of Wall Street. They believe that JP Morgan's financial pinch is temporary and fortunes will improve dramatically once the market picks up. One key element will be whether the bank can continue to build on its impressive corporate client list.

Yesterday, JP Morgan landed a highly sought-after account, the $4.2bn-in-funds TIAA-CREF, one of America's largest pension funds. 'We are confident JP Morgan Investor Services has the resources and capability to meet our needs,' said Richard Adamski, treasurer of TIAA-CREF.

Retaining corporate client confidence in trying times is critical to countering negative reports, such as Standard & Poor's analyst Stephen Bigger's recent advisory. Avoid the shares, he said, because of 'ongoing deterioration in company fundamentals'.

Ironically, the buzz on Wall Street is that Chase may need another merger to save it, even though the last one has not lived up to the hype.

Confident chief defends Enron role

A HOMEBODY from North Carolina, William Harrison is one of life's least-likely mega-bankers. While others were getting prestigious degrees from Ivy League business schools, he was executing jump shots for the University of North Carolina Tar Heels basketball team. Even then, the 6ft 4ins youngster was not one to accept defeat easily.

He first orchestrated Chemical Bank's merger with Manufacturers Hanover then united that combination with Chase in the mid-1990s before tying the knot with JP Morgan five years later.

Through every merger of equals, Harrison has always emerged with the full support of boards of directors. The 57-year-old chief executive rallies his troops with pep talks and insists the stock is undervalued.

His only hint of a mea culpa came in a televised message to staff earlier this year when he said the firm had perhaps too much exposure to Enron and other troubled firms. That was a major admission for a man unafflicted by self-doubt, according to those who know him.

He denies the bank contributed to Enron's collapse by helping set up the form of offshore partnerships that hid debt, saying it acted 'ethically' in every way, a view not shared by some Congressional investigators.

London staff fear the worst

JP MORGAN Chase is wellknown in London as the sponsor of the Corporate Challenge, where thousands of business people jog three and a half miles round Battersea Park for charity each summer.

While the bank's public image in the UK is cuddly, behind the scenes it is slashing jobs and struggling with plunging morale in the wake of its disruptive merger and sliding markets. The sackings in London began in earnest in its securities arm on Monday. Equities analysts and traders in hi-tech stocks were said to be first in the firing line.

The cull in Britain is eventually expected to reduce the 8,000-strong London workforce by several hundred. It is a grizzly task for Walter Gubert, the London-based chairman of investment banking worldwide, and ironic given the relative success of the bank in recent months.

The number and value of deals may be down but it climbed seven places to top the rankings of announced deals for the first nine months this year, according to Thomson Financial.

The bank advised Lattice in its $30bn (£19bn) merger with National Grid. It brought mining group Xstrata to market in the biggest float of the year, and just yesterday it was behind a debt deal for Vivendi. It is also advising Hong Kong tycoon Dickson Poon on his attempts to take retailer Harvey Nichols private.

Among those wielding the axe is Michael Forsyth, a former Cabinet minister in the Thatcher Government who is now vice-chairman of UK investment banking.

The London operations have also had to cope with the Chase takeover of family-owned merchant bank and fund manager Robert Fleming in 2000.

JP Morgan Chase's fund management arm, headed by ex-Fleming manager Paul Bateman, is thought to be widening margins after a hard time in which it lost Cambridgeshire County Council's £250m mandate.